The Importance of Second-Level Thinking, Part 1,982

Charlie Munger, the guy best known as Warren Buffett’s right hand man, really doesn’t get enough credit for the success of Berkshire Hathaway.

Before Munger came along, Buffett was content to toil in the world of micro-cap stocks, finding obscure cigar butt opportunities. These were terrible companies selling at prices so low they were worth more dead than alive. Buffett would buy, get one last “puff” out of the cigar butt, and book his profit.

I’ve wrote about the concept before, over here. It’s a profitable endeavor for those of you who like making money in unglamorous ways. Go ahead, try and impress your friends at dinner parties about how you bought some trash company nobody has ever heard of. I’ve tried.

Just kidding. I don’t get invited to dinner parties. Something about my odor.

Although net-net investing is basically a way to print money, Buffett started moving away from the concept for a number of different reasons. As he got bigger, it was harder to cigar butts that would really make a difference. It required a lot of work, constantly scanning for undervalued securities. And each sale created taxable events, which is detrimental to long-term returns.

By thinking bigger, Charlie Munger was able to convince Buffett the better course of action was to buy great companies and hold them for a very long time. It took Buffett a few years to figure it out, but he eventually did. And the rest, as they say, is a terrible cliche.

Applying Munger to personal finances

I touched on trying to apply this to your personal finances a few months ago, when EQ Bank first came out with a too good to be true promo rate of 3% on savings. It attracted a bunch of money before ratcheting down the rate. And then it decreased the rate again. These days, it pays closer to 2%. That’s still pretty good, but it was obvious to most people that the original rate was too good to be true.

Let’s look at another example, something I came across recently about the amount of money we spend on credit cards. I can’t remember the source, but the argument went something like this.

The average person who goes to McDonald’s spends $4.50 when they use cash. They spend $7 per transaction when they use credit cards. Therefore, we can argue that credit cards are wealth killers. Look at how much extra people are spending! They spend 55% more on credit cards! ZOMG! No wonder we’re all in so much debt!

But there’s a simple solution to that stat that explains a lot. We’ve been conditioned to use our credit cards for larger purchases. Most of us have a few bucks on us, just enough to pay for an apple pie or McFlurry when we go out for something small. But the guy buying dinner for six people who’s going to drop $50 is less likely to have that much cash. He skews the average up.

We’ve all been to a business that has a sign telling you to keep the credit card in your wallet unless you’re spending at least $5. Those signs are far less numerous than they used to be, but they still exist. We’ve been shamed to not bother with credit cards unless the transaction size was bigger for years.

This isn’t rocket science. It just takes a little different way of looking at the world.

Another example

My favorite example of this is the stat that college grads make more than high school grads. Everybody attributes this to college itself. More education is a good thing, see? We’ve got the stats to prove it.

I’m the first to admit that many people have used college as a way to make more money. Somebody interested in health care will make more as a trained nurse than an untrained bedpan emptier. An educated teacher will make more than a PTA mom who decides she wants to be a substitute.

But that doesn’t tell the whole story. The world is filled with people who took what I like to call bullshit degrees who are doing just fine. I have a buddy with a history degree who’s making six figures a year in a blue collar field. George H.W. Bush majored in economics. And so on.

And the world is filled with guys like me who didn’t go to college who are making just as much money as college graduates.

So is it really college that sets high earners apart from lower ones? I don’t think so. I think it has to do with the qualities college grads have. The average person who goes to college is smart, ambitious, and hard-working. Those are the qualities that set him up for success. College is just a way to get there.

Conclusion

I’m a big fan of thinking about the world in non-linear ways. It’s one of the easiest ways to get ahead. Rather than accepting things at face value, think about why things are and most importantly, the motivation of the person explaining things to you. Once you get good at the skill, it’ll permeate into other parts of your life.

It’s not enough to assume things are true. You must understand why they are the way they are, while realizing the official explanation might just be poppycock designed to advance an agenda.

3 Comments

Although having good traits is important for predicting success there are certain subject areas that are almost impossible to become competitive in without the university environment. I’m thinking natural sciences, mathematics and maybe a few other subjects. Other knowledge areas like for example ‘business’ (BBA, MBA, BCOM etc.) can be easily learned outside of the higher level school system. Often time it’s the combination of the sheepskin, networking and elementary education that gives a degree like that it’s value. In some cases the degree is like the union card for an entry level modern office job, doesn’t matter what you’re major is as long as you have the credential. The employer just uses the degree as a shortcut to filter out certain people. The soft subject bachelors degree has, in many cases, become debased in quality over time and is largely looked at the same way the high school degree was by employers in the 50’s and 60’s IMHO.

I agree with all these words. Unfortunately, the average 18 year-old doesn’t have the life experience to weigh the options like this. Hell, the average grown-up doesn’t either. School works out for them; thus, the tell the younger generation to go. That’s the whole thought process.